Featured Reel

Limited Liability Companies for Films
The Right Setup to get Funding

By Mary Ellen Tomazic

Obtaining financing for your film is a daunting task, especially in this rough economy. If you do find an `angel’ to invest in your film, the type of business organization form you select will make a difference in how you receive the funds.

Partnerships are the most common business form, and other forms, such as an LLC, with more than one member, will revert to this model if statutory requirements are not met.

The classic investor model for a Broadway production is a Limited Partnership, which allows for general (managing) partners and limited (non-managing investor) partners. In this form, the promoters are in charge, the limited partners are entirely passive. Promoters hire and organize things; limited partners give in their percentage of the funds and sit down!

Of course, the tax treatment is different from an incorporated company, with each Partner being taxed on the individual level by his percentage of participation in the profits. The entity itself is not taxed as is the case with a corporation.

A Limited Liability Partnership has general partners and limited partners who are liable for partnership debts and torts, but notfor those of the individual partners not done in the name of the partnership or not caused by the Limited Liability Partnership.  The Limited Liability Partnership can be held liable for torts, injuries to persons or property caused by the partnership, and that includes civil rights violations and copyright and trademark infringement.

Determining the type of organization you want for your film venture will depend on what kind of association the parties desire. A limited partnership may be suited to an investor who wishes to avoid the greater potential liability of a general partner and is willing to pay the price of giving up a say in management.[1] 

A limited liability company may be best suited to a group of people who are pooling their labor and resources to make one or more movies, but do not want to put their individual residences and assets at risk.

Limited Liability Companies are a good form to use for films as long as you are diligent about your recordkeeping.

Raising money for your film as part of an LLC has some extra concerns, since selling interests or memberships in an LLC or even in a Limited Liability Partnership most likely are going to be “securities” within the scope of both state and federal securities laws.[2]

Any “offer to sell” (not just a completed purchase) of LLC memberships can put the transaction into the securities realm, which requires compliance with state and federal laws and regulations. Even if membership in a small member-managed LLC ought not to be seen as a security, any LLC membership interest that is solely for the purpose of investment is classified as a security.

Ohio law explicitly mentions LLC memberships as securities in its definition of them.[3] Although Ohio Securities laws provide for exemptions to full compliance for offerings of LLC memberships, some exemptions must still be claimed in a filing with the Ohio Division of Securities, which must find by rule that registration is not necessary or appropriate in the public interest or for the protection of investors.[4]

The most common reasons for exemption of an LLC membership as a security by issuers include a number of provisions involving smaller numbers of investors. The first under Ohio law allows an offering to ten or fewer purchasers[5]. 

This exemption requires that the total number of purchasers (or members, in the case of an LLC) in this state in one year does not exceed ten. It also requires that no advertisement, article, notice, or other communication be published in any newspaper, magazine or similar medium or broadcast over television or radio in connection with the sale, but the use of offering circulars delivered by the issuer to select individuals is allowed. The issuer must also reasonably believe after investigation that the purchaser is purchasing for investment.

The exemption also limits any commission or other remuneration for sales, and that such commission is paid only to registered dealers or salespersons of securities registered under state law.[6] This exemption does not require a filing to perfect it, but an issuer should memorialize reliance of the LLC on this exemption in its company records.[7]

Another reason for exemption refers to the federal securities law, providing that section 5 of the Securities Act of 1933 do not apply to the sale by reason of an exemption under section 4 (2) of that act.[8] These are so-called “private offerings” under O.R.C. 1707.03(X) and the federal act, not involving a “public offering”, which thus prohibits any advertising or general solicitation, and also requires investment intent.

A Form 3-Q must be filed with the Division within sixty days of the date of sale for this exemption to be valid, and the Ohio Administrative Code section 1301:6-3-03(B)(6) defines the date of sale.

The offering must also comply with the conditions of Securities and Exchange Commission Rule 506, which among other things prohibits advertising and general solicitation, and limits the number of purchasers to thirty five “accredited” investors, which under SEC Rule 501, are directors, executive officers, or general partners of the issuer, or have a very high net worth of over 1 million dollars.

Non-accredited investors, which the rule allows in unlimited numbers, are required to be “sophisticated”, and disclosure documents must be delivered to them. Out-of-state issuers have additional filing requirements under Ohio law.[9]

Private offerings under O.R.C. 1707.03(W) have the same investor requirements as that of section (X), and are limited to $5 million under SEC Rule 505. A filing fee of $100.00 must be included with form 3-W and sent to the Division of Securities within five business days prior to the first use of an offering document or the first sale in Ohio.[10]

This exemption also has a “Bad Boy” provision, which disqualifies any issuer or broker-dealer which would be prohibited from using the exemption because of convictions for fraud or securities violations.[11]

Lastly, under O.R.C. 1707.02(G), private offerings of commercial paper and promissory notes that are not offered directly or indirectly to the public are exempt from registration.  O.A.C. 1301:6-3-02 defines private offering and details other exempt securities, including those of commercial paper and promissory notes.[12]

You can see from the requirements of the private offerings exemption that the purpose of the securities laws is to safeguard smaller investors who do not have a lot of money to lose, as an `accredited’ investor does. They are also designed to allow an exemption for an investor who is `accredited’ because of being a director, executive officer or general partners of the issuer, because he or she has a hand in the management of the LLC and its assets personally.

[1] Thomas Swisher, Partnerships KP 8.01, Ohio Forms & Transactions (2005).
[2] O.R.C. 1707.01 -99(2007), Ohio Administrative Code 1301:6-1-01 to 03. (2009); Securities Act of 1933, 15 U.S.C. §§77a -77aa (2010).
[3] O.R.C. 1707.01(B).
[4] O.R.C. 1707.03(V).
[5] O.R.C. 1707.03(O).
[6] Id.
[7] Thomas E. Geyer, Basics of Ohio Securities Law, September 16, 2003 (Bailey Cavalieri LLC, Attorneys at Law pdf).
[8] O.R.C. 1707.03(Q).
[9] O.R.C. 1707.11.
[10] Geyer, Basics of Ohio Securities Law.
[11] O.R.C. 1707.03(W) (2) (a).
[12] O.A.C. 1301:6-3-02(D).

Mary Ellen Tomazic is an attorney in Cleveland specializing in entertainment issue
such as copyright, trademarks, contracts and licenses for musical groups and filmmakers.